Should I Get an HDHP Just to Use an HSA?

I’ve heard all about using an HSA as a triple tax free account and/or a Stealth IRA and I’m excited to have some more tax-protected space. However, I have a non-high deductible health insurance plan available through my work and wonder if I should use that instead of an HDHP.

A.

I get this question a lot. It’s important not to miss the forest for the trees and to let common sense prevail. However, before addressing it, let’s talk a little bit about Health Savings Accounts (HSAs).

HSA Rules

HSAs are one of my favorite types of accounts. They are the only “triple-tax-free” account in that they give you a tax-deduction up-front, grow in a tax-protected manner, and then are tax-free upon withdrawal, so long as they are spent on health care. If not spent on health care, you must pay tax plus a 20% penalty on withdrawals, unless age 65 or older, in which only the tax is due, much like a traditional IRA or 401(k). In addition, if your employer makes the contribution as part of a cafeteria plan, contributions are also FICA tax-free. Self-employed folks, unfortunately, are out of luck there.

For 2015, HSA contribution limits are $3,350 ($6,550 if married) plus an additional $1,000 “catch-up” if you are 55 or older.

In order to contribute to an HSA, you need to have an approved High Deductible Health Plan (HDHP.) That is defined by the government as a deductible of at least $1,300 ($2,600 married) and a maximum out of pocket amount of $6,450 ($12,900 married). No HDHP, no HSA.

Many people don’t realize you don’t need to use the HSA your employer has lined up. You can contribute to any HSA you please, or transfer your money from your employer’s HSA to another one. This allows you to take advantage of HSAs that may pay particularly high rates, or HSAs that allow you to invest the money in low-cost mutual funds, especially if you don’t intend to spend the money for decades.

Three Good Ways and One Bad Way to Use an HSA

1) Pay Retirement Health Care Expenses

The very best bang for your buck with an HSA is to contribute now and get the tax break, let it compound for decades, and then spend it on health care in retirement. This maximizes the tax benefits of your only triple-tax-free account.

2) Pay Health Care Expenses Now

The original intent of HSAs was to enable people to have money to pay their high deductibles on their high deductible health plans. The two ways to let market forces fix our health care problem are to increase cost-sharing and to add price transparency. Well, the HDHP/HSA system does the first, even if it doesn’t do the second. The tax benefits of an HSA are to entice people to actually contribute to their HSAs. Even if you turn around and spend the money a month later, it’s still a pretty good deal. You basically get to pay for health care tax-free.

3) The Stealth IRA

Another great use of an HSA is to not spend it on health care at all. After age 65, it basically turns into a traditional IRA. The nice thing about this feature is it eliminates all worry of overcontributing to these accounts. If you turn out to be really healthy, and the investments grow like crazy so you have a million dollar HSA, well, you can use it to buy a boat in retirement. It’s just another tax-protected retirement account.

4) Cashing Out

Really, the only bad way to use an HSA is to spend it on something besides health care before age 65. Not only will you pay tax on the money, but you are also going to pay a 20% penalty. The effective tax rate on that money will probably be somewhere between 45% and 70%, not exactly a good deal.

Answering the Question

As you can see, HSAs are pretty awesome. Because they are so awesome, some people will do anything to get one. That’s not necessarily wise. For example, if you or a family member are particularly unhealthy or take an expensive medication and are going to hit your deductible every year, you’re probably better off getting a health insurance plan with a lot lower deductible, even if the premiums are higher. Likewise, if your employer pays some or all of your health insurance premiums, it doesn’t make sense to turn that benefit down (unless you can exchange it for a higher salary) just to get a HDHP/HSA. Many times, it’s your spouse’s health care plan. A doc I know, for instance, has a spouse that works at the local university hospital. They pay almost nothing for health care. An HSA is not for them.

But in general, docs are pretty good candidates for HDHPs. They don’t tend to run in and get seen for stupid stuff. They can often take care of little things themselves. They may benefit from professional courtesy or at least a discounted rate. They have plenty of income to pay high deductibles. Plus, they’re generally relatively healthy. If you’re buying your own health insurance on the open market like I do, you might as well get a HDHP so you can use an HSA.

What do you think? Do you have an HSA? How do you intend to use it? Comment below!

78 comments

I love the idea of using an HSA as a triple tax advantaged stealth IRA. Unfortunately I ended up closing my HSA after just two years for some other factors:

1) if you are employed, the ability of your HR department to not mess things up makes a difference. In just 3 pay periods this year, I’ve had $3350 deducted correctly pretax but never routed to my HSA, $3300 deducted again pretax (despite numerous emails informing HR I’ve maxed out my contribution already), and $3300 magically added after tax in addition to my regular paycheck (I love free money as much as the next guy but I’m pretty sure the accounting department will catch wind of this if I keep getting an additional $3300/pay period). In the end, it was too much hassle trying to email HR and have them get matters correct

2) do you trust your HSA account holder? I use HSA bank because I like their investment options and low costs. They erroneously transferred money out of my HSA account into my investment account which really seems like a breach of trust. Furthermore, has anyone ever tried to contact them for support? They refuse to answer account related questions via email, will put you on hold forever via phone, and on the off chance you do get through, will subject you to a phone conversation with unfortunately some of the densest support staff I’ve had the displeasure of speaking with.

All in all, it’s a great idea and for those who’ve had a smoother ride, I envy you. But in the end, I think I’ll just settle for making a larger contribution to my taxable account each year

Very timely post as today is my 65th birthday. Unlike Darren I’ve been very satisfied with HSA bank and with their investment option through Ameritrade. I’ve accumulated a significant amount of money and have some addional questions regarding my HSA.
Can I continue to contribute to my account after I start on Medicare? Can I use the HSA money to pay for my Medicare supplement or Long Term Care insurance without tax consequences? If I just leave the money grow, will my wife or children (don’t forget to complete the beneficiary form on your HSA account!) inherit the money tax free?
Thank you.

1) can’t contribute to HSA once on Medicare.
2) ok to use HSA funds for Medicare gap insurance but not part A premiums
3) unsure about LTC insurance
4) on death I believe it is just treated as any other traditional IRA with pre-tax contributions

Long-term care insurance. (subject to IRS mandated limits based on age and adjusted annually, see IRS Publication 502: Long-Term Care).
Health care continuation coverage (such as coverage under COBRA – see IRS Publication 502: COBRA Premium Assistance).
Health care coverage while receiving unemployment compensation under federal or state law.
Medicare and other health care coverage if you were 65 or older (other than premiums for a Medicare supplemental policy, such as Medigap).

Note also that items (2) and (3) can be for your spouse or a dependent meeting the requirement for that type of coverage. For item (4), if you, the account beneficiary, are not 65 or older, Medicare premiums for coverage of your spouse or a dependent (who is 65 or older) generally are not qualified medical expenses.

I stand corrected. I had the Medicare gap and regular premium exactly backwards: I knew both were involved as I’d sent my HSA-toting-and-now-Medicare-covered parents a link a few weeks back, but clearly didn’t have them straight.

No, I don’t think you can contribute on Medicare. That’s not an HDHP. Yes, you can use it to pay LTC insurance and your Medicare supplement. Your spouse inherits the HSA on your death and it’s still an HSA. A non-spousal heir gets the money, but it is fully taxable and no longer an HSA. No stretch HSAs, sorry. Ideally you spend the entire thing just before death.

It is always important to do the math. For our family, even with one of us having high medical cost and therefore using most or even all of our deductible and max out of pocket, it made sense to get a HDHP/HSA.

What I mean by “do the math” is if (monthly premium x 12) + your deductible is less than or equal to the lower deductible plan + that deductible, then you can’t do any worse and may in fact come out ahead if you have a “good” year that you don’t hit your deductible. Additionally, if you pay you deductible with HSA money, you at least save on the tax as WCI pointed out.

WCI, what are your thoughts on asset allocation to the HSA. I currently manage my HSA and Vanguard Roth as one account when it comes to my total asset allocation. It just so happens that my entire HSA account is in the Vanguard Total International equity fund. I do not plan on using my HSA until retirement, and that is at least 20 years away. Is there an advantage or disadvantage to having my HSA 100% invested in Vanguard’s Total International equity fund? Thank you in advance.

Yes, if it does well, you’ll do well. If it doesn’t, you’ll do poorly. I keep mine simple too. Mine is all in TSM. It makes up a pretty small percentage of my portfolio so I haven’t worried too much about it. No definite right answer to this question.

great post — as more and more docs are stuck being employed (like me) this is an important calculation to make. my employer doesn’t offer a HDHP but does pay 80% of the premium for a regular plan. probably wouldn’t make sense for me to turn it down and pay 100% of the cost of a HDHP. would be nice to convince the company to offer a HDHP (and pay for it)…

My group just transitioned to an HSA option. As a owner/partner I dont get the pre tax contribution, but it still works well for my family. Wells Fargo sevices our HSA, and the investment options are not the best. I read a previous post stating I could open an HSA at say HSA Bank and transfer the funds? Is this correct?

Wells Fargo manages ours as well, and I am not impressed…It takes a ton of digging to find out what the expense fees are on their options. I am also interested in how to easily transfer to a different company holding our HSA.

As far as the actual HSA vs traditional health plan, in every situation (I could think of) the HSA came out ahead for our plan…makes the choice pretty easy, plus we are young so lots of time to grow some money.

We are also young/healthy and it was a no brainer. I would be thrilled to transfer my money, if it were simple. I am considering the Wells Frago Index Fund and use other accounts to balace my protofolio. The bond funds and the international funds from Wells frago seem expensive.

Good point about when to use an HSA vs. went to use a traditional health insurance plan. People with a serious or chronic illness are going to get their money’s worth from an insurance company even if they pay a high premium. Thank you.

I’ve used an HSA for 3 years and am happy with it. I get a couple of debit cards each year that I promptly toss away. My plan is with Fidelity and it allows me to invest funds over $2500 and there’s no monthly charge. If I stop contributing, I’ll be charged $3 per month. I do try and get prescriptions filled at warehouse clubs or mail order. It helps to shop around. My medical expenses are covered using after-tax dollars.

I’m confused about the math, trying to figure out if this makes sense. Let’s assume that my total family deductible is $5000 for easy math. Let’s assume that I will pay the $5000 out of pocket, every year. Since I will at least get tax-deferred growth for 25 years until retirement, maybe even triple tax free, wouldn’t it always make sense to use an HSA and pay out of pocket for those with a long time to retirement? The tax free growth alone should make it worthwhile. Or, am I missing something? Thanks.

You’re missing the fact that some people pay very little for health insurance. For example, they might pay $100 a month and the employer might pick up the other $900. Let’s say this policy also has a $250 deductible and no co-insurance. So this family has a total of $350 a year for health care. Pretty sweet deal. Far better than turning down the employer’s insurance, buying your own, and paying $5K a year for health care (plus premiums) just to get an HSA.

I don’t know about the investment options, but I have really enjoy using Alliant Credit Union’s HSA. They give you .648% interest if you have $100 deposited. No minimum deposit fees. The people on the phone were friendly and the people handling the HSA department were knowledgeable.

Investment cost $72 a year in fees (probably a few statement fees as well) plus must have minimum $1000 deposited. They have a few vanguard options that are pretty attractive. I am not currently using this option.

**I did not receive any pay from them to post this. I just think they offer a great product that is worth sharing.

2) I echo those who posted above that recommended that one do their own math. For me the math works out to be in favor of a HDHP + HSA in all circumstances as long as we stick to in-network care. One needs to know the subsidy, premium for each plan, family deductible, family out of pocket maximum (both in- and out-of network), and one’s marginal tax rate. It’s not tough math, just with many variables as one needs to consider best, worst, and average expenditure cases.

(For my employer I get a fixed ~$1200/mo subsidy which renders premiums for my family as $19/mo for HDHP, $209/mo for PPO. $3k family deductible and $6k OOP in-network maximum for HDHP, iirc, as opposed to $750 deductible and $3k? OOP for the PPO plan. Premium savings and tax benefit make it such that I come out ahead even if $6k OOP is hit each year, and on “better” years I come out even farther ahead.)

Since I don’t think there are analogous wash sale rule issues between HSAs and non-HSA accounts (as exist between taxable and tax-deferred investment accounts!) I think I’ll just stick with a simple single fund allocation. Choosing from most any of these can be argued for depending on how long one wants to stretch the HSA’s interest compounding out for before actually using it:

Our group covers 100% of the doc’s premium on a regular health plan, since I wanted to do the stealth IRA with the high deductible plan, I asked if I could take the difference in the premiums and have that contributed from the company into my HSA account. They all agreed. three years later, most of them are doing the same thing.

I live in NJ which is one of I think 3 states that doesn’t recognize HSA contributions as deductible. I don’t like it but I get it. My question is do I have to pay State taxes on any gains (Dividends, distributions) within the account? I can’t seem to find the answer to this, does anyone know?

I too use HSA Bank for my HSA, however, they just updated their website and I can’t figure out how to transfer my money from HSABank to my TDameritrade account. Did they end their relationship or am I just missing something here? It used to be easy to transfer the money to TD Ameritrade, now I can’t figure it out. Forgive me if I’m a moron.

Yes, the HSA Bank website ‘upgrade’ is an example of exactly how NOT to ‘improve’ user interface. It took me a while as well to figure out how to do this. I assume that when I make my annual transfer again in January 2016, they will have figured out a way to make it even more difficult!

Great post! I have an HDHP through my employer and my employer also offers an HSA, although I don’t like the plan’s investment options. Can I open an HSA independent of my employer’s plan, even if they offer one? And, if I’m funding it manually, outside of my paycheck, do I have to declare it on my income tax return to get the tax benefit at the end of the year?

Yes and yes. Keep in mind your employer’s HSA contributions may be pre-payroll tax. So you might want to wait until your employer puts it in their preferred HSA, then do a transfer into your preferred HSA.

I don’t know if our situation is typical. I’m a HS teacher and my wife is a family doctor. I have an HD plan through my district for myself and the kids. My wife has her non-HD plan through her employer that is provided free (but the family plan through her employer is very expensive. Here is the run-down on costs and why I do the HD plan.

My HD plan through AETNA costs me $247/mo for an Employee and Children policy. It is the standard $2500/$5000 individual/family deductible with out of pocket max of $9200. The HD plan pays 100% of preventative care which is about the only thing we do. For example, my recent colonoscopy was 100% covered.

The alternative non-HD plan through AETNA would cost me $550/mo with a $1000/$3000 deductible and a $12000 out of pocket max.

Now for the math.

We are in the 28% tax bracket so my $6550 HAS contribution in 2014 generated an $1834 tax deduction.
We are saving $303/mo ($3636/yr. on premiums by going with the HD plan for a total annual savings of $5470 compared to the non-HD plan

We have yet to actually bump up against any of the deductibles. But the annual deductible difference between the plans is only $2000 so even if we were to pay the entire HD deductible in a given year we still come out $3470 ahead. The non-HD plan has some lower co-pays but actually has a higher out-of-pocket max which is what I’m really worried about anyway.

So, from my point of view, and without even looking at the long-term tax advantages of using the HSA as a Roth IRA our normal annual savings with the HD plan is $5470 if we don’t need more than preventative care, and our worst-case savings if we run through the HD deductible is $3470.

I’m probably missing something but at first look it is financially ridiculous to do anything but the HD plan with the maximum HSA.

WCI,
Can you confirm something for me from past posts? I believe that as the current law stands I can save all of my receipts from current healthcare costs and the turn in those receipts when I am 55 (in about20 years) to buy that Ferrari I want. Obviously the laws could change by then, but as I understand there is no current limit on using costs from past years that I have had the HSA/high deductible plan in place. Am I correct? Thanks

I have what appears to be a stupid question. First, some context from the post:

“In order to contribute to an HSA, you need to have an approved High Deductible Health Plan (HDHP.) That is defined by the government as a deductible of at least $1,300 ($2,600 married) and a maximum out of pocket amount of $6,450 ($12,900 married). No HDHP, no HSA.”

Does simply having a plan that has at least a $1300 deductible (for me only) and a $6450 out of pocket max make the plan a HDHP? My employer offers two plans. A PPO and an HSA plan. Both have deductibles over $1300 and both have out of pocket max of $6450. The PPO plan just allows for 3 office visits with a $35 co-pay. Any visits after that are subject to the deductible before the co-insurance kicks in. Does that mean that even if I have the PPO plan that I contribute to and HSA?

As I shop for insurance for my family I notice some plans labeled HSA and other are not. There seems to me no correlation between their deductibles and their designation has an HSA plan. I looked at the IRS website and it does not provide much help. It just states the same info WCI posted above.

My HSA is through BenefitWallet. The only Vanguard index options are TSM and small cap. I chose the later, more aggressive option since I don’t plan to use the funds therein for 30+ years. My intention is to use the HSA for retirement healthcare expenses and/or as a Stealth IRA.

I’m about to get LASIK for $4000, I have the money for it in a Credit Union Account, and no HSA currently. Lasik is a qualified health care expense and I have a HDHP. I will have a very low tax burden next year (only making $25k w/ many tax credits as an intern). What’s the best way to maximize the potential tax benefit of the HSA in this setting — should I set up an HSA and pay $3350 from an HSA, or pay from the Credit Union and hold the receipt for use at a later date? If I hold the receipt do I already have to have an HSA set up for it to retroactively be considered a qualified expense??

Set up the HSA. Pay for LASIK. Pull the money out of the HSA your second year as an attending when you’re into your “peak earnings” years. Or hold the receipt for decades. But most interns don’t have $8K to play around with like this. You could also just put the money in an HSA and actually use it to pay for LASIK. At least you’re paying with pre-tax dollars, even if they’re not taxed very highly.

I live in California and will soon be switching from an employee to self-employed. My current employer sponsored medical insurance coverage is through Anthem and is a high deductible/HSA-eligible PPO plan. Anthem has a similar plan for purchase as an individual– but to my surprise, this option excludes some of the doctors that are otherwise in-network for the employer sponsored version– not sure why.

Can anyone recommend a company that offers a good HSA eligible PPO medical insurance plan for individuals/families in Southern California?– particularly one with a good network of doctors and hospitals? I’d prefer to stick with the doctors my kids and wife currently see.

Is there a state or federal exchange to look it up on? The other option is to use an agent. I have an agent I shop my health insurance with each year. She’s a neighbor and does a good job. It’s not all that complicated, but it doesn’t cost me any more to get her help.

Thanks for this blog. I am a newish reader and truly appreciate the quality information. I am probably switching to an HDHP and am looking at HSA accounts. Thing is my employer does not offer one (which is totally fine I will do it independently). So I assume the taxes I pay will be clawed back when I file taxes, is that correct? Apologies if this is an obv question to others. Also any other advice to starting one is truly welcome.

That’s right. However, you won’t be able to “claw back” the payroll taxes (SS and Medicare) you might save if your employer were sending the money to the HSA directly. Self-employed folks already have that downside.

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